Which Liabilities Do Buyers Treat as Debt-Like in a Business Valuation?

Debt-like is a transaction concept, not a balance-sheet label

Debt-like liabilities are amounts that may reduce the cash value delivered to an owner even when they are not labeled bank debt. In a typical enterprise-value-to-equity-value bridge, the buyer starts with an agreed business value and then adjusts for items such as cash, indebtedness, working-capital differences, and transaction expenses. The exact bridge is contractual. Debt-like is a practical shorthand for an item that the buyer says should reduce the amount paid for the equity or be settled by the seller at closing.

That shorthand should not be confused with accounting classification. IAS 37 describes provisions as liabilities with uncertain timing or amount and distinguishes recognized provisions from contingent liabilities based on obligation, probable outflow, and reliable measurement. Those accounting conclusions help identify obligations, but they do not decide how a purchase agreement allocates value. [1]

Start with the agreement and the closing-date definition

The first question is not whether an item is debt. It is which definition governs the calculation. Read indebtedness, net debt, working capital, transaction expenses, assumed liabilities, excluded liabilities, cash, and taxes together. Then identify the measurement date. A balance that is ordinary working capital at month end may be debt-like if it is overdue, outside the agreed peg, or expressly carved into indebtedness.

Publicly filed agreements illustrate the point. One SEC-filed merger agreement defines indebtedness to include selected deferred compensation, severance, accrued income taxes, and certain lease obligations, while excluding amounts already included in net working capital or transaction expenses. It also sets a post-closing statement and disagreement process. [3] This is evidence of negotiated drafting, not a universal market rule.

Loans and financing are the straightforward candidates

Traditional borrowings, revolvers, overdrafts, notes, accrued interest, prepayment premiums, and drawn letters of credit are usually the easiest items to test. The schedule should include principal, accrued interest, fees, penalties, breakage amounts, and payoff instructions where the agreement includes them. Confirm whether a personal guarantee, equipment financing, vendor note, or shareholder advance is being repaid, assumed, or left with the company.

Leases require care. A contract may distinguish operating leases from finance or capital leases, and the agreement may use an accounting framework that differs from the company’s internal presentation. Do not put every lease liability in debt-like items merely because a software report labels it a liability. Match the contract definition and the agreed accounting principles.

Unpaid and deferred taxes depend on period and allocation

Unpaid taxes are frequent candidates because a buyer may resist paying for a business while also inheriting tax generated before closing. But taxes are not one category. Separate income taxes, payroll taxes, sales or value-added taxes, property taxes, franchise taxes, deferred payroll taxes, and transaction-related transfer taxes. Identify the tax period, filing status, payment date, responsible party, and whether the amount is already accrued in working capital or reserved elsewhere.

A filed stock purchase agreement, for example, included accrued income taxes and certain deferred employer payroll taxes in its negotiated indebtedness definition, while excluding other tax liabilities and ordinary payables or accruals included in closing net working capital. [4] The treatment in that document cannot be copied into another transaction. Tax allocation and payment obligations are jurisdiction-dependent, so a qualified tax adviser should review the schedule.

Bonuses, severance, and deferred compensation need a service-period analysis

An earned bonus can look like an operating accrual, a transaction expense, or debt-like value depending on who earned it, when the service was performed, and whether the buyer will pay it after closing. Separate ordinary recurring compensation from a sale bonus, retention payment, change-in-control payment, severance, deferred compensation, and employer payroll taxes. Document whether the amount is earned, contingent, approved, payable, or dependent on continued service.

IAS 19 says an employee-benefit liability is recognized when an employee has provided service in exchange for benefits to be paid in the future. It also says short-term benefits are measured at the undiscounted amount expected to be paid for that service. [2] That accounting principle can support an accrual, but the purchase agreement may place the item in transaction expenses, indebtedness, working capital, or a seller-paid obligation. One SEC-filed agreement expressly included selected severance, deferred compensation, and contingent bonus obligations in indebtedness. [3]

Deferred obligations and customer balances can shift categories

Deferred purchase-price obligations, earn-outs, seller notes, and unpaid amounts for acquired assets are often debt-like because they finance or defer payment for value already received. The schedule should state the counterparty, original obligation, amount due, maturity, conditions, and whether the amount is included in the deal definition. Ordinary trade payables are often treated differently because they are part of normal working capital.

Customer deposits and deferred revenue require a separate analysis. Cash received before the seller delivers the promised product or service may create a post-closing performance burden. Some agreements treat particular customer deposits as indebtedness, while others keep ordinary deferred revenue in working capital or address it through a revenue-quality analysis. The relevant question is who receives the future cash benefit and who must perform the remaining work. [4]

Use a classification matrix to prevent double counting

Create one row for every candidate item and add columns for account name, counterparty, amount, service or tax period, payment date, contractual definition, proposed bucket, supporting record, and reviewer. Add a final one-location-only column. Each item should land in indebtedness, working capital, transaction expenses, an assumed liability, a seller-paid closing item, or an expressly excluded category. If it lands nowhere, record the reason and obtain a decision before circulating the bridge.

Double counting often happens when the same unpaid bonus is included once in working capital and again in transaction expenses, or when accrued taxes are included in both indebtedness and a tax reserve. The agreements reviewed here expressly use exclusions such as without duplication and remove items already captured in another adjustment bucket. [3] [4] Reconcile the final schedule to the trial balance, general ledger detail, payroll reports, tax returns or estimates, debt confirmations, lease schedules, and closing statement. A reviewer should sign off on each exception, not just the total.

Ask for evidence and define stopping conditions

For each proposed adjustment, request the source record that proves the amount and timing. Useful evidence may include lender payoff letters, executed notes, payroll registers, bonus-plan documents, tax workpapers, lease schedules, customer-deposit reports, board approvals, and vendor aging. Label estimates and unresolved contingencies rather than presenting them as settled facts. IAS 37 notes that some possible obligations are contingent and disclosed rather than recognized, which is a reminder that uncertainty must be described rather than hidden in a precise-looking number. [1]

A practical review can stop when every candidate item has a contract bucket, a reconciled source record, an owner for unresolved questions, and a documented no-duplication decision. Escalate when the agreement is ambiguous, the amount is material to the bridge, a tax period crosses closing, an employee claim may be triggered by the sale, or the accounting basis differs from the contract. Human review by qualified accounting and legal advisers remains necessary.

How a business owner should prepare before signing

Before a letter of intent becomes a purchase agreement, ask for the proposed definitions and illustrative closing statement. Compare them with the company’s latest balance sheet and a separate list of unusual obligations. Highlight unpaid taxes, deferred payroll amounts, bonuses, owner loans, leases, customer deposits, litigation-related provisions, and commitments that do not appear as ordinary payables. The goal is not to argue that every item is debt-like. The goal is to make the allocation visible early enough to negotiate a clear definition.

Keep the operational workflow user-controlled. A software workflow can help organize source records, map line items, flag duplicate buckets, and route exceptions to the accountable human reviewer. It should not send disclosures, approve classifications, negotiate with a buyer, or replace professional review. Acquivo gives business owners the entire sell-side process an investment bank would run, as software, with no success fee. Acquivo is user-operated software. Acquivo is a software platform that delivers the entire sell-side M&A process, valuation, marketing materials, buyer matching, and deal management, on one platform for business owners, M&A attorneys, and boutique investment banks.

The durable answer to which liabilities count is therefore: those the agreed transaction definition places in the debt-like or equivalent adjustment bucket, supported by the closing-date facts and not already counted elsewhere.